Chapter F14 Power Notes Statement of Cash Flows Learning Objectives 1. 2. 3. 4. 5. Purpose of the Statement of Cash Flows Reporting Cash Flows Statement of Cash Flows – The Indirect Method Statement of Cash Flows – The Direct Method Financial Analysis and Interpretation C14 C14 - 1 Cash Flows Increases in Cash Decreases in Cash Operating Operating (receipts from revenues) Investing (receipts from sales of noncurrent assets) Financing (receipts from issuing equity and debt securities) (payments for expenses) Cash Investing (payments for aquiring noncurrent assets) Financing (payments for dividends, and redemption of debt securities) C14 - 2 Cash Flows – Operating Activities Typical cash inflows Typical cash outflows Sales of goods and services Merchandise purchases Interest Revenue Payments of wages & other expenses Dividend Revenue Tax payments C14 - 3 Cash Flows – Investing Activities Typical cash inflows Typical cash outflows Sales of fixed assets and other long-term investments Purchase of fixed assets and other longterm investments Sale of marketable securities and investments Purchase of marketable securities and investments C14 - 4 Cash Flows – Financing Activities Typical cash inflows Typical cash outflows Sales (issuance) of stock Purchase of treasury stock Sale (issuance) of bonds and other money market debt Repayment and redemption of debt (bonds, notes, other) Borrowing from banks and other lending institutions Payment of cash dividends C14 - 5 NetSolutions Statement of Cash Flows – Direct Method For the Month Ended November 30, 2002 Cash flows from operating activities: Cash received from customers Deduct cash payments for expenses and payment to creditors Net cash flow from operating activities $ 7,500 4,600 $ 2,900 Cash flows from investing activities: Cash payments for acquiring land (20,000) Cash flows from financing activities: Cash received as owner’s investment Deduct cash withdrawal by owner Net cash flow from financing activities Net cash flow and ending cash balance $25,000 2,000 23,000 $ 5,900 C14 - 6 NetSolutions Statement of Cash Flows – Indirect Method For the Month Ended November 30, 2002 Cash flows from operating activities: Net income, per income statement Add increase in accounts payable Deduct increase in supplies Net cash flow from operating activities $ 3,050 400 (550) $ 2,900 Cash flows from investing activities: Cash payments for acquiring of land (20,000) Cash flows from financing activities: Cash received as owner’s investment Deduct cash withdrawal by owner Net cash flow from financing activities Net cash flow and ending cash balance $25,000 2,000 23,000 $ 5,900 C14 - 7 NetSolutions Statement of Cash Flows – Direct Method For the Month Ended November 30, 2002 Cash flows from operating activities: Cash received from customers Deduct cash payments for expenses and payment to creditors Net cash flow from operating activities $ 7,500 4,600 $ 2,900 NetSolutions Statement of Cash Flows – Indirect Method For the Month Ended November 30, 2002 Cash flows from operating activities: Net income, per income statement Add increase in accounts payable Deduct increase in supplies Net cash flow from operating activities $ 3,050 400 (550) $ 2,900 C14 - 8 Cash Relationships and Cash Flows Balance Sheet Cash 1 Liabilities Noncash 3 Assets Stockholders’ 2 Equity Assets = Liabilities + Stockholders’ Equity Cash + Noncash Assets = Liabilities + Stockholders’ Equity Cash = Liabilities + Stockholders’ Equity – Noncash Assets 1 2 3 The cash flows are determined by analyzing liabilities, stockholders’ equity, and noncash assets. C14 - 9 Changes in Current Accounts Accounts 2003 2002 Trade receivables (net) $74,000 $65,000 Inventories 172,000 180,000 Accounts payable (mdse.) 43,500 46,700 Accrued expenses payable 26,500 24,300 Income taxes payable 7,900 8,400 Change Debit Credit 9,000 8,000 3,200 2,200 500 These debit changes are subtracted from net income in the operating activities section of the statement of cash flows. Think of these debits as deductions from net income in arriving at net cash flow from operations. C14 - 10 Changes in Current Accounts Accounts 2003 2002 Trade receivables (net) $74,000 $65,000 Inventories 172,000 180,000 Accounts payable (mdse.) 43,500 46,700 Accrued expenses payable 26,500 24,300 Income taxes payable 7,900 8,400 Change Debit Credit 9,000 8,000 3,200 2,200 500 These credit changes are added to net income in the operating activities section of the statement of cash flows. Think of these credits as additions to net income in arriving at net cash flow from operations. C14 - 11 Operating Activities – Indirect Method Cash flows from operating activities: Net income, per income statement Add: Depreciation Decrease in inventories Increase in accrued expenses Deduct: Increase in accounts receivables Decrease in accounts payable Decrease in income taxes payable Gain on sale of land Net cash flow from operating activities $108,000 $ 7,000 8,000 2,200 $ 9,000 3,200 500 12,000 17,200 $125,200 24,700 $100,500 Start with the accrual basis net income shown on the income statement. C14 - 12 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Cash Basis Sales $1,180,000 Cost of merchandise sold 790,000 Cash collected Gross profit $390,000 Changes from customers Operating expenses: Debit Credit Depreciation expense $ 7,000 Sales 1,180,000 Other operating expenses 196,000 Receivables 9,000 203,000 Total operating expenses Cash The changes1,171,000 in the current balance sheet Income from Note: operations $187,000 accounts are determined by comparing the Other income: beginning balances. Receivables Gain on sale of land and ending $12,000 increased by $9,000 during the period. Other expense: Interest expense 8,000 4,000 Income before income tax $ 191,000 Income tax 83,000 Net income $ 108,000 C14 - 13 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales Cost of merchandise sold Gross profit Cash payments for Operating expenses: merchandise Depreciation expense Other operating Cost ofexpenses mdse. sold Total operating expenses Inventories Income from operations Accounts payable Other income: Cash Gain on sale of land Other expense: Interest expense Income before income tax Income tax Net income $1,180,000 790,000 $390,000 Changes $ Debit 7,000 Credit 196,000 790,000 203,000 8,000 $187,000 3,200 Cash Basis $1,171,000 $12,000 8,000 4,000 $ 191,000 83,000 $ 108,000 C14 - 14 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales $1,180,000 Cost of merchandise sold 790,000 Gross profit $ 390,000 Operating expenses: Depreciation expense $ 7,000 Other operating expenses 196,000 Depreciation Changes Total operating expenses 203,000 Debit $187,000 Credit Income from operations Depr. expense 7,000 Other income: Accum. depreciation $12,000 7,000 Gain on sale of land Other expense: Interest expense 8,000 4,000 Income before income tax $ 191,000 Income tax 83,000 Net income $ 108,000 Cash Basis $1,171,000 (785,200) C14 - 15 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales $1,180,000 Cost of merchandise sold 790,000 Gross profit $ 390,000 Operating expenses: Depreciation expense $ 7,000 Other operating expenses 196,000 Total operating expenses 203,000 Cash payments for Changes Income from operations $187,000 operating expenses Changes Debit Credit Other income: expenses $12,000 196,000 Gain onOperating sale of land Other expense: Accrued expenses 2,200 Interest Cash expense 8,000 193,800 4,000 Income before income tax $ 191,000 Income tax 83,000 Net income $ 108,000 Cash Basis $1,171,000 (785,200) 0 (193,800) C14 - 16 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales $1,180,000 Cost of merchandise sold 790,000 Gross profit $390,000 Changes Gain on sale of Operating expenses: investments Depreciation expense $Debit 7,000 Credit Cash 72,000 Other operating expenses 196,000 60,000 TotalInvestments operating expenses 203,000 Gain on sale of invest. 12,000 Income from operations $187,000 Other income: Gain on sale of land $12,000 Other expense: The cash inflow of $72,000 Interest expense will be shown in 8,000 4,000 the Income before income tax $ 191,000 investing section of the Income tax statement of cash flows.83,000 Net income $ 108,000 Cash Basis $1,171,000 (785,200) 0 (193,800) 0 C14 - 17 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales $1,180,000 Cost of merchandise sold 790,000 Gross profit $ 390,000 Operating expenses: Depreciation expense $ 7,000 Other operating expenses 196,000 Cash paid for Total operating expenses 203,000 Changes interest expense Income from operations $187,000 Debit Credit Other income: Interest expense 8,000 Gain onCash sale of land $12,000 Other expense: Interest expense 8,000 4,000 Income before income tax $ 191,000 Income tax 83,000 Net income $ 108,000 Cash Basis $1,171,000 (785,200) 0 (193,800) 0 C14 - 18 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Sales $1,180,000 Cost of merchandise sold 790,000 Gross profit $ 390,000 Operating expenses: Depreciation expense $ 7,000 Other operating expenses 196,000 Total operating expenses 203,000 Cash paid for Changes Income from operations $187,000 Debit Credit Other income:income taxes 83,000 Gain onIncome sale of tax landexpense $12,000 Other expense: Income tax payable 500 Interest Cash expense 8,000 83,500 4,000 Income before income tax $ 191,000 Income tax 83,000 Net income $ 108,000 Cash Basis $1,171,000 (785,200) 0 (193,800) (8,000) (83,500) C14 - 19 Rundell Inc. Income Statement For the Year Ended December 31, 2003 Cash Basis Sales $1,180,000 $1,171,000 Cost of merchandise sold 790,000 (785,200) Gross profit $ 390,000 Operating expenses: Depreciation expense $ 7,000 0 Other operating expenses 196,000 (193,800) Total operating expenses 203,000 Two different views Income from operations $ 187,000 Other income: of income from Gain on sale of land $12,000 0 operations Other expense: Interest expense 8,000 4,000 (8,000) Income before income tax $ 191,000 Income tax 83,000 (83,500) Net income $ 108,000 $ 100,500 C14 - 20 Operating Activities – Direct Method Cash flows from operating activities: Cash inflows: Cash received from customers Cash outflows: Cash payments for merchandise Cash payments for operating expenses Cash payments for interest Cash payments for income tax Net cash flow from operating activities $1,171,000 $785,200 193,800 8,000 83,500 1,070,500 $ 100,500 C14 - 21 Financial Analysis and Interpretation Free Cash Flow Cash flow from operations $1,400,000 Less: Cash invested in fixed assets to maintain capacity (450,000) Less: Cash used for dividends (100,000) Free cash flow $ 850,000 Use: To measure operating cash flow available for corporate purposes after providing sufficient fixed asset additions to maintain current productive capacity and dividends. 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